United's earnings call shakes Wall Street's faith in CEO

United Continental Holdings CEO Oscar Munoz speaks during a House Transportation and Infrastructure Committee hearing in Washington on May 2, 2017. MUST CREDIT: Bloomberg photo by Andrew Harrer.

In the span of a one-hour conference call, Wall Street’s confidence in the leadership of United Airlines plummeted.

Analysts pressed Chief Executive Officer Oscar Munoz and President Scott Kirby on how they planned to deal with rising costs and falling pricing power. Would they rein in growth in the face of fare weakness? Provide more detail on revenue initiatives? Revisit financial goals outlined last year?

Munoz asked for “a little bit more patience.” The exchanges turned testy. And what began in the morning as a moderate stock slide after a disappointing earnings report turned into the biggest tumble for United’s stock in eight years. Shares halted the slide Friday, rising less than 1 percent to $60.03 at 9:59 a.m.

By the end of the day, analysts said they were fielding questions from investors about whether United needed a management change. That’s adding to pressure on Munoz, who has been under fire this year for fighting a fare war with discounters, bobbling the rollout of a new no-frills product and mishandling the furor when a passenger was dragged off a plane in April.

Before the call, “we had heard rumblings from the investment community about another potential management change at United Continental,” Helane Becker, an analyst at Cowen & Co., said in a note to clients. After the call, “they aren’t rumblings, but full-fledged screams.”

United Continental Holdings Inc. declined to comment on analysts’ discussions of any management changes. On the call, Munoz said the current managers need more time after inheriting an industry laggard from previous leaders.

“We have dug ourselves in a hole from a competitive perspective, and the team that we’ve gathered to get out of here is about regaining that competitive advantage,” he told analysts.

Munoz, 58, took over two years ago when his predecessor left amid an internal inquiry into the airline’s ties to the former chairman of the Port Authority of New York & New Jersey. Serious health problems struck: Munoz suffered a heart attack and underwent a heart transplant before returning to work in 2016.

Undeterred, the former railroad executive set about forging labor peace, pushing operational improvements and drawing up turnaround plans. He weathered a proxy fight by Altimeter Capital Management and PAR Capital Management Inc., with United replacing its chairman and giving board seats to the hedge funds. Munoz then brought in Kirby, a veteran of American Airlines.

United’s reward for last year’s changes: a 27 percent stock gain, the most among major U.S. carriers.

But the winning streak petered out. United suffered a public-relations fiasco from the dragging incident. Analysts faulted it for endangering its profit goals by implementing a no-frills “basic economy” offering too widely. Aggressive growth and a price war with discounters this summer battered its fares.

Now investors are questioning the strategy – and whether Munoz and Kirby are the best people to carry it out.

“Is this a catalyst for management change?” Stifel Financial Corp. analyst Joe DeNardi said in a research note Thursday after the earnings call. “That’s the No. 1 question we’ve received today.”

It’s hard to see how United’s current strategies will close the profit gap with Delta, DeNardi said in a follow-up interview. United’s cost per seat-mile should be falling as it ramps up the supply of seats and flights, with the expenses being spread out over a greater number of seats, he said. Instead, costs are rising.

It’s not that simple in the real world, Chief Financial Officer Andrew Levy said on the call. The company is working through its costs and “a ton of inputs,” he said.

“We’re going through all of that, and we’re just not ready to give detailed commentary on 2018 for costs,” he said.

The approach by Munoz and Kirby still has a chance to bear fruit. United’s strategy of confronting discount rivals in its hubs is likely to work over time, said Susan Donofrio, a Macquarie Group analyst. The problem is the short-term pain.

“A lot of changes are being put into place,” she said. “It really depends on how patient investors are going to be,”

The answer to that question is that time is running out, if Thursday’s epic stock plunge is any indication. Also, the company faces structural problems that the management team isn’t tackling, including the lack of hubs where it enjoys true dominance and can exert greater pricing power. United’s effort to add flights out of its major airports is an attempt to bolster its position in the long term, DeNardi said.

“Is this strategy sufficient, or does United need to do something more drastic, like closing a hub?” DeNardi asked.

Ultimately, United must figure out if it can make its U.S. business more profitable, said George Ferguson, an analyst at Bloomberg Intelligence. If it concludes it can’t win at home, it could focus overseas and trim its domestic expansion. The Chicago-based airline generated about 39 percent of last year’s revenue abroad, about 10 percentage points higher than Delta or American, according to data compiled by Bloomberg.

United’s leaders have about six months to show improvement or face a shake-up, Ferguson said. At a minimum, the next time they address investors, they need to do a better job of explaining why their turnaround plan will work.

“If your boss boxes you into a corner on something and you start talking but you got no story, you’re dead,” Ferguson said. “And they had no story.”